• Selected
• Entire List

Abstract:
The Enron-Andersen debacle provides a unique opportunity to investigate whether equity prices impound auditor reputation. Univariate and regression results indicate that event day abnormal returns and two-day cumulative abnormal returns are generally not significantly different from zero for both Andersen and big five non-Andersen audit clients during the months of October 2001 through January 2002. Cumulative abnormal returns over all event days are marginally significantly negative for the Andersen sample and insignificantly negative for the non-Andersen control sample. The Andersen sample lost 4% more than the non-Andersen sample in risk-adjusted returns over the events in the four month period.

Enron, auditor reputation, market reaction

Abstract:
The Enron-Andersen debacle provides a unique opportunity to investigate whether equity prices impound auditor reputation. We address this issue by comparing the daily stock returns of a sample of Andersen audit clients with those of a control sample of big five non-Andersen audit clients during the months of October 2001 through January 2002. These four months are characterized by events that negatively impacted upon Andersen's reputation such as Enron's bankruptcy and the shredding of Enron documents by Anderson employees. The empirical results are not clear cut. Univariate and regression results indicate that event day abnormal returns and twoday cumulative abnormal returns are generally not significantly different from zero for both Andersen and non-Andersen audit clients. On the other hand, cumulative abnormal returns over all event days are marginally significantly negative for the Andersen sample and insignificantly negative for the non-Andersen control sample. There is some evidence that events directly related to Andersen had a larger negative impact on stock returns than events directly related to Enron. The data also suggests that the Enron affair had a negative spillover effect on non-Andersen big five audit clients. In terms of economic significance, the Andersen sample lost about 4% more than the non-Andersen sample in risk-adjusted returns over the events in the four month period.

Abstract:
This paper investigates the relation between the extent of a firm's past and expected future losses or negative cash flows and the ex ante probability that it will manipulate revenues. When a firm has a string of losses or negative cash flows, traditional valuation models do not yield reliable estimates of firm value, and traditional price-earnings ratios are not meaningful. Evidence suggests that market participants tend to value loss firms on the basis of the level and growth in revenues, rather than cash flows and earnings, thereby motivating these firms to overstate revenue. In fact, empirical results indicate that there is a positive relation between the number of years that firms exhibit and/or anticipate losses or negative cash flows and investment in receivables after controlling for credit policy. We further show that the ex ante likelihood that firms manipulate revenue in violation of GAAP is positively associated with the history of past and expected future losses or negative cash flows as well as with the investment in accounts receivable (adjusted for credit policy). Our results suggest another indicator of manipulation that may be used by auditors and regulators in identifying firms that are more likely to overstate revenues.

Restatements, Revenue Manipulation, two-stage probit model, partial observability

Abstract:
This paper extends the variance decomposition framework of Campbell (1991), Campbell and Ammer (1993) and Vuolteenhao (2002) to address the relative value relevance of accruals news, cash flow news and expected return news in driving firm-level equity returns. The extension is based on the Feltham-Ohlson (1995, 1996) clean surplus relations. Accruals news is found to significantly dominate expected-return news in driving firm-level stock returns. Operating income news is also found to significantly dominate both expected-return news and free cash flow news in driving firm-level stock returns. Furthermore, after splitting net income into cash flow and accrual earnings components in the Vuolteenhao (2000) model, accrual earnings news is found to significantly dominate both expected-return news and cash flow earnings news in driving firm-level stock returns. Overall, these three results indicate that changes in expected future accruals are the primary driver of current stock returns rather than changes in expected future cash flows or future discount rates.

Abstract:
This study investigates a large sample of financial statement restatements over the period 1986-2001, and compares restatements caused by changes in accounting principles to those caused by errors. Typically, investors perceive restatements as negative signals due to three potential reasons: (i) the restatement indicates problems with the accounting system that may be manifestations of broader operational (and managerial) problems, (ii) the restatement causes downward revisions in future cash flows expectations, and (iii) the restatement indicates managerial attempts to cover up income decline through cooking the books.

We provide evidence that market reactions to restatements due to errors are generally negative. We show that these restatements come in periods of declining profits and lower profits than industry peers for the restating firms, consistent with both opportunistic managerial behavior and operational problems. However, investors' reactions to income-increasing restatements due to errors are not different from zero, suggesting that the perceived failure of the accounting system is just offset by the upward revisions in future cash flow expectations in these cases of income-increasing errors. Thus, our combined results show that not all restatements are alike; users of the information need to carefully assess the existence and potential effects of the three factors that typically cause the downward revisions in stock prices on a case by case basis.

restatements, accounting errors, accounting principles

Abstract:
This study maintains that the value relevance of accounting information cannot be measured solely by reference to Ball-Brown (ERC) analysis. The contribution of accounting information to return volatility is equally crucial. Synthesizing and generalizing results from earlier studies, this paper rigorously develops Ball-Brown (1968) and volatility measures of the information content of earnings from underlying primitives using the accounting return decomposition model of Vuolteenaho (2002). The well-known Ball-Brown metric is obtained by assuming that (i) the time series of (log deflated) earnings is stationary AR(1), (ii) other information shocks are non-existent and (iii) expected future discount rates are inter-temporally constant. This measure is initially extended to include other information shocks and dynamic discount rates that are also stationary AR(1). Generalized Ball-Brown and variance measures of information content are further obtained where the time series of earnings, other information and expected future discount rates follow either stationary ARMA(p,q) processes or a log-linear stationary VAR process. Closed form solutions of information content are also obtained for earnings components (e.g., cash flows and accruals). Applications of the theory are offered that show how this framework improves on extant empirical methodologies and suggests further lines of research.

Ball-Brown analysis, Earnings Information Content, Variance Decomposition

Abstract:
This paper rigorously develops and extends the Ball-Brown (1968) and Beaver (1968) measures of the information content of earnings from underlying primitives, using the asset pricing model of Vuolteenaho (2002). The standard Ball-Brown and Beaver measures of information content are obtained by assuming that the time series of (log deflated) earnings are AR(1) with drift and expected future discount rates are inter-temporally constant. The Ball-Brown and Beaver measures of information content are further generalized to the case of dynamic discount rates by assuming initially that (log) expected future discount rates have fixed and dynamic return components such that the dynamic return component is AR(1) with drift. These measures of information content are further generalized to two broad cases: (1) the time series of earnings and expected future discount rates are ARMA(p,q) processes; and (2) the time series of earnings and expected future discount rates follow a log-linear Vector Autoregressive (VAR) process.

One of the more ubiquitous applications of Ball-Brown analysis - and recently of the Beaver approach - involves decomposing earnings into components (e.g., cash flows and accruals) in order to determine which earnings component has greater information content. Closed form solutions of the information content of earnings components are obtained for the standard Ball-Brown and Beaver measures and for the generalizations of these measures.

value relevance, earnings, Ball-Brown

Abstract:
This pedagogical note introduces the accounting-based variance decomposition methodology of Vuolteenaho (2002) in a relatively simple format for the edification of accounting scholars and Ph.D. students who wish to use variance decomposition in their research. In addition to presenting an example that explicates the variance decomposition approach, we provide well-documented SAS and STATA programs for estimating variance decompositions from cross-sectional time-series data.

Variance Decomposition, SAS, STATA

Abstract:
This pedagogical note introduces the accounting-based variance decomposition methodology of Vuolteenaho (2002) in a relatively simple format for the edification of accounting scholars and Ph.D. students who wish to use variance decomposition in their research. In addition to presenting an example that explicates the variance decomposition approach, we provide well-documented SAS and STATA programs for estimating variance decompositions from cross-sectional time-series data.

Variance Decomposition, Programs

Abstract:
Although several studies have examined how investors value domestic versus foreign earnings, the results are inconsistent. We re-examine this question employing a variance decomposition model which, in contrast to previous research, explicitly considers expectation models for domestic and foreign earnings and allows for time varying discount rates. We document that investors value domestic earnings significantly higher than foreign earnings. We further find that the relative valuation of foreign earnings is an increasing function of the degree of investor sophistication, measured as either the percentage of institutional holdings or the number of institutional owners. Finally, when we classify institutional investors as short-term and long-term following Bushee (1998), we find that the relative valuation of foreign earnings increases with the level of investment by long-term investors. In contrast, there is no significant relation between the degree of ownership by short-term (or transient) investors and the relative valuation of domestic and foreign earnings. Overall, our results are consistent with Thomas' (1999) finding that investors on average underestimate the persistence of foreign earnings due to lack of understanding of firms' foreign operations caused in part by poor disclosure.

Foreign earnings, valuation, investor sophistication

Abstract:
This study evaluates the impact of earnings on credit risk in the Credit Default Swap (CDS) market using levels, changes, and event study analyses. We find that earnings (cash flows, accruals) of reference firms are negatively and significantly correlated with the level of CDS premia, consistent with earnings (cash flows, accruals) conveying information about default risk. Based on the changes analysis, a 1 percent increase in ROA decreases CDS rates significantly by about 5 percent. We also find that (i) CDS premia are more highly correlated with below-median earnings than with above-median earnings and (ii) CDS premia are more highly correlated with earnings of low rated firms than with earnings of high rated firms. Evidence indicates further that short-window earnings surprises are negatively and significantly correlated with CDS premia changes in the three-day window surrounding the preliminary earnings announcement, although the impact is concentrated in the shorter maturities.

Credit Default Swaps, Earnings, Default Risk, Cash Flows, Accruals

Abstract:
This study evaluates the impact of earnings on firm credit risk as captured by Credit Default Swaps (CDS). We find that earnings (changes) are negatively correlated with one-year swap premia (changes) after controlling for equity returns but not with longer term premia (changes). We also find that earnings surprises are significantly correlated with one-year CDS premia changes in the short window surrounding preliminary earnings dates and that absolute earnings surprises are significantly correlated with absolute one-year CDS premia changes in the short window surrounding SEC filing dates. These results suggest that high earnings convey favorable information about the short-term default risk of firms but not about the long term default risk. We further document that accruals/cash flow information conveyed by SEC filings provides information about long-term credit risk. Furthermore, the empirical results are consistent with structural and hybrid model-driven implications of CDS pricing.

Credit Default Swaps, credit risk, earnings

Abstract:
This paper examines the importance of foreign earnings relative to domestic earnings for a sample of U.S. multinationals using variance decomposition. Our methodology represents an alternative and complementary approach over the prior literature, which is based on traditional regressions and earnings response coefficients. We document that domestic earnings are more important in explaining the variance of unexpected returns than foreign earnings and that the relative importance of domestic earnings is a decreasing function of investor sophistication. Last, we classify institutional investors as either short- or long-term oriented following Bushee (1998). We find that the variance contribution of foreign earnings increases with the level of investment by long-term investors. In contrast, there is no significant relation between the degree of ownership by short-term (or transient) investors and the variance contribution of domestic and foreign earnings. Overall, our results are consistent with Thomas' (1999) finding that investors on average underestimate the persistence of foreign earnings.

Variance contribution, foreign earnings, investor sophistication

Abstract:
We examine whether domestic or foreign earnings contribute more to the variability of unexpected stock returns for a sample of U.S. multinationals and consider the role of investor sophistication. We use a variance decomposition methodology that measures the contribution of each earnings component (and expected future discount rates) to the variance of unexpected returns. We show that the contribution of each earnings component to the variance of unexpected returns depends both on the variance of the earnings component and on its persistence. We document that domestic earnings contribute significantly more to the variability of unexpected returns than do foreign earnings. We further find that the relative variance contribution of foreign earnings is an increasing function of the degree of investor sophistication. Finally, when we classify institutional investors as short-term and long-term following Bushee (1998), we find that the relative variance contribution of foreign earnings increases with the level of investment by long-term investors. In contrast, there is no significant relation between the degree of ownership by short-term (or transient) investors and the relative variance contribution of domestic and foreign earnings. Overall, our results are consistent with Thomas' (1999) finding that investors on average underestimate the persistence of foreign earnings due to lack of understanding of firms' foreign operations caused in part by poor disclosure.

Variance contribution, valuation, foreign earnings, investor sophistication

Abstract:
The Vuolteenaho (2002) return decomposition is linear because it assumes that the market's return expectations are obtained solely from accounting information. By restricting accounting recognition rules to specific (and primarily) negative future cash flow shocks, conservative accounting drives a wedge between the market's return expectations that are based upon all positive and negative cash flow shocks and return expectations that are based solely on accounting numbers. This insight allow us to derive analytically a nonlinear relation between revisions to returns and earnings news for conservative firms, of which the Basu relation is a special case. This nonlinear relation is shown to be mathematically equivalent to two linear relations conditioned on the firm's degree of conservatism. From these relations, we derive a model-based measure of the degree of conservatism at the firm-year level which is a function of the determinants of conditional conservatism. To account for the endogeneity of the firm's degree of conservatism and potential sample selection bias, the model is implemented empirically using a switching regression approach in which the switch point, namely, the degree of conservatism, is both unobservable and endogenously determined. Consistent estimates of the parameters of the switching regression, including the endogenous determinants of conservatism posited by Watts, are obtained by simultaneous maximum likelihood estimation. The results indicate that the degree of conservatism is a positive function of contractual information asymmetry and litigation risk but a negative function of taxes.

Conditional Conservatism, Switching Regression, Endogenous Switching Point

Abstract:
We test the hypotheses that (i) poor accounting quality is one source of market frictions that contribute to stock price delay, and (ii) the portion of price delay due to poor accounting quality is associated with a stock return premium. Price delay is the average delay with which information is impounded into stock prices (Hou and Moskowitz, 2005). Accounting quality measures are based on the quantitative information in financial statements, and results are robust to use of a qualitative characteristic of annual reports (the FOG readability index of Li, 2008) to measure accounting quality. The results are consistent with our hypotheses, suggesting poor accounting quality is economically costly in that it hinders timely price adjustment and increases the cost of equity.

Accounting Quality, Market Frictions, Stock Price Delay, Expected Returns

Abstract:
This paper investigates what drives the price disparity between Chinese twin shares (A shares traded largely by domestic investors; B- and H- shares traded mainly by foreign investors). Extending the variance decomposition framework of Vuolteenaho (2002), we decompose the unexpected price disparity into two terms: the difference in expected return news and the difference in cash flow news. Our results show that the difference in expected return news overwhelmingly dominates difference in cash flow news in driving the variation of the price disparity. This suggests that to a large extent, market or macro news, rather than firms' specific news, moves the price disparity of the twin shares.

Foreign share price discount, variance decomposition

Abstract:
We study the relation between stability of the nonprofit organization’s environment and its board structure and the impact of this relation on organizational performance from the perspectives of both Agency Theory and Resource Dependence (Boundary Spanning) Theory. The impact of board characteristics on organizational performance is contextual. Specifically, we predict and show for a sample of U.S. nonprofits that board mechanisms related to monitoring are more likely to be effective for stable organizations, whereas board mechanisms related to boundary spanning are more effective for less stable organizations. We find that the two theories are complementary and address different aspects of nonprofit performance, but the results are statistically stronger and more often consistent with resource dependence than with agency theory. Overall, this study supports Miller-Millesen’s (2003) contention that, because the nonprofit environment is often more complex and heterogeneous than the for-profit world, no one theory describes all tasks of nonprofit boards.

nonprofit governance, boards, resource dependency, agency theory, organizational stability

Abstract:
This paper analyzes the relation between equity prices and conditional conservatism and introduces a new measure of conservatism at the firm-year level. We show that the asymmetric properties of conservative accounting, the existence of non-accounting sources of information, and the properties of GAAP related to special items combine to generate a nonlinear relation between unexpected equity returns and earnings news (the shock to expected current and future earnings). Based on this conceptual model, we construct a conservatism ratio (CR) defined as the ratio of the current earnings shock to earnings news. CR measures the proportion of the total shock to expected current and future earnings recognized in current year earnings. Ranking firms according to CR, we show empirically that higher CR firms have more leverage, increased volatility of returns, more incidence of losses, more negative accruals, and increased volatility of earnings and accruals, consistent with the literature on conservative accounting.

Conditional Conservatism, Special Items, Return Decomposition, Ratio

Abstract:
We examine experimentally the bargaining process and the final allocation of payoffs in games that differ in terms of whether or not the core exists and in the initial allocation of property rights among the players. The paper highlights the interaction between property rights, transaction costs and the empty core. Our experimental results indicate that the existence of the core is an important determinant of bargaining generally and the Coase Theorem in particular. They confirm our conjecture that when the core is empty and property rights are ill defined, Coasian efficiency breaks down. Among other results, our experiments show that the number of inefficient (non-Pareto Optimal) agreements and bargaining rounds with cycling are significantly greater when the core is empty than when the core exists, especially when property rights are ill-defined. Our results suggest an economic role for specific property right arrangements to resolve the empty core.

Coase Theorem, empty core, property rights, experimental

Abstract:
This paper investigates the relation between the extent of a firm's past and expected future losses or negative cash flows and the ex ante probability that it will manipulate revenues. When a firm has a string of losses or negative cash flows, traditional valuation models do not yield reliable estimates of firm value, and traditional price-earnings ratios are not meaningful. Evidence suggests that market participants tend to value loss firms on the basis of the level and growth in revenues, rather than cash flows and earnings, thereby motivating these firms to overstate revenue. In fact, empirical results indicate that there is a positive relation between the number of years that firms exhibit and/or anticipate losses or negative cash flows and investment in receivables after controlling for credit policy. We further show that the ex ante likelihood that firms manipulate revenue in violation of GAAP is positively associated with the history of past and expected future losses or negative cash flows as well as with the investment in accounts receivable (adjusted for credit policy). Our results suggest another indicator of manipulation that may be used by auditors and regulators in identifying firms that are more likely to overstate revenues.

Restatements, Revenue Manipulation, two-stage probit model, partial observability

Abstract:
This study empirically investigates the incentive-action-performance chain on cross-sectional plant data in the context of a Just-in-time (JIT) plant manufacturing environment. Incentives in this study are of the soft goal-oriented variety rather than direct compensation. The empirical analysis is implemented using Ordinary Least Squares and Heckman two-stage regressions to account for the potential endogeneity of the JIT adoption decision. We find that plant performance outcomes are associated with actions, namely, the breadth and intensities of plant JIT practices adopted by plant management, but are not associated with performance incentives. However, we find that the JIT adoption decision is associated with incentives. We further find that it is the essential inventory incentive aspects of JIT, such as increasing inventory turns and reducing scrap/waste, that motivate JIT adoption rather than other arguably less central incentive aspects of JIT such as product quality. Overall, our results are consistent with the predictions of the implicit career incentives Principal-Agent model but not with predictions of the standard explicit incentives Principal-Agent model.

principle-agent, just-in-time manufacturing, career incentives, endogeneity

Abstract:
This study evaluates the extent to which the asset valuation arguments raised by medieval post-Talmudic legal scholars are consistent with modern contingent claims analysis. In particular, this study evaluates the arguments proposed by these scholars in order to rationalize the Talmud's differential valuation of the same asset by multiple claimants. Modern contingent claims analysis is able to explain differential valuation by invoking market imperfections such as transactions costs and asymmetric information. We conjecture that market imperfections lie behind the Talmud's differential valuation of the Kethubah. This study finds that although some post-Talmudic scholars - notably Rashi, the Rashbam and the Rosh - can be interpreted as raising transactions costs and asymmetric information arguments to rationalize differential valuation of the Kethubah, their lines of reasoning are typically included as part of a broader set of less convincing arguments. We argue that this mixture of deep insights into asset valuation and abstruse logic is likely a continuation of Talmudic ambivalence to the valuation of non-human capital, an ambivalence induced by the biblical prohibition against interest.

Talmud, Valuation, Market Imperfections, Kethubah

Abstract:
Using the Vuolteenaho (2002) variance decomposition methodology, this study assesses the relative value relevance of cash flow, accrual (earnings) and expected return news on SEC and preliminary earnings filing dates, as measured by their contribution to the volatility of unexpected returns. Cash flow news is found to be more value relevant than accrual news. Although expected return (risk) news is the least value relevant, it is significantly correlated with changes in betas and returns at the preliminary and SEC filing dates, indicating association with changes in firm risk and discount rates. This study also documents that these informational components contain less (more) value relevant information at the SEC filing date for firms with a higher proportion of long-term (transient momentum) sophisticated investors after controlling for other dimensions of the information environment.

SEC Filings, Value Relevance, Variance Decomposition

Abstract:
This paper tests the Feltham-Ohlson (1995) model by transforming the undefined "other information" variables into expectational variables, as suggested by Liu and Ohlson (2000). The signs of the estimated coefficients conform to the model's predictions using panel data techniques, non-parametric estimation, reverse regressions and portfolio regressions. The tests reject the Ohlson model in favor of Feltham-Ohlson. Nevertheless, the estimated leverage coefficient takes a value of three instead of one for most variations of the model. Also, the one-year-ahead price predictions of the Feltham-Ohlson model are no more accurate than those of the Ohlson model or a naive earnings valuation model.

Feltham-Ohlson, Equity Valuation, Conservatism, Net Operating Assets, Growth

Abstract:
The literature to date on the valuation relevance of R&D investments is based primarily on (pooled and annual) cross-sectional regressions or panel data regressions with time and firm (or industry) fixed effects in which the parameters relating R&D to market value are cross-sectionally constant. In an alternative approach, this paper investigates the value relevance of R&D investment using an earnings based firm-level time series valuation model. To mitigate the biases induced by non-stationary accounting and market data, the underlying valuation model is modified to account for unit roots. Costs of capital varying both over time and by firm are estimated endogenously. In contradistinction to the results obtained from cross-sectional and fixed effects panel models, this study finds weak empirical support at best for the value relevance of R&D expenditures at the firm level. Conditional on the assumption that R&D expenditures are a random walk - yielding a single lagged R&D model - only about 25% of the sample firms have significant R&D valuation parameters at the 5% significance level. These firms exhibit lower book to market ratios than firms whose R&D valuation parameters are insignificant, suggesting that value relevance of R&D expenditures is positively related to the firm's growth options. Conditional on the assumption that R&D expenditures are an IAR(1,1) process - yielding a twice lagged R&D model - only about 10% of the sample firms yield significant R&D valuation parameters.

R&D, value relevance, Ohlson

Abstract:
The management accounting and operations management literatures argue that the adoption of advanced manufacturing practices, such as JIT, necessitates complementary changes in the firm's Management Accounting and Control Systems. This study uses a sample of JIT and non-JIT plants operating in the Canadian automotive parts manufacturing industry to study the interaction between performance outcomes, intensity of JIT practices and productivity measurement. This study provides evidence that productivity measurement mediates the relationship between performance outcomes and intensity of JIT practices. Specifically, both JIT and non-JIT plants that use a broader range of productivity measures are more efficient and profitable. Also, plants that employ industry driven productivity measures are more profitable and efficient relative to plants that employ idiosyncratic productivity measures, especially if the former are more JIT intensive. Furthermore, plants that employ quality productivity measures are less efficient and less profitable, especially if they use more intensive JIT practices. The latter result is consistent with JIT intensive plants over-investing in quality. This study also finds that plants that invest more in buffer stock are less efficient and less profitable, especially if they use more intensive JIT practices. Despite the fact that plant profitability and efficiency are highly correlated, JIT intensive plants are more profitable but less efficient relative to plants that are not JIT intensive, after controlling for productivity measures, plant size and buffer stock. This result suggests that despite wasting resources, JIT intensive plants are still able to generate superior profits relative to plants that are not JIT intensive.

JIT, plant performance, productivity measures

Abstract:
This paper extends the variance decomposition framework of Campbell (1991), Campbell and Ammer (1993) and Vuolteenaho (2002) to address the relative value relevance of accrual news, cash flow news and expected return news in driving firm-level equity returns. The extension is based on the Feltham-Ohlson (1995, 1996) clean surplus relations. Using three models, this study shows that all three factors, accruals, cash flows and expected future discount rates are value relevant. Moreover, accrual news is found to significantly dominate expected-return news in driving firm-level stock returns. Operating income news is also found to significantly dominate both expected-return news and free cash flow news in driving firm-level stock returns. Furthermore, after splitting net income into cash flow and accrual earnings components in the Vuolteenaho (2002) model, accrual earnings news and cash flow earnings news are found to equally drive firm-level stock returns and to dominate expected-return news. Further disaggregation of the data yields some evidence that accrual earnings news is a more important factor than cash flow earnings news in driving current stock returns. Overall, the three models indicate that changes in expected future accruals are a primary driver, if not the primary driver, of current stock returns.

Accruals, Valuation, Variance Decomposition

Abstract:
This paper investigates the relationship between nonprofit board composition and organizational efficiency. Overall, we find a significant statistical association between the presence of major donors on the board and indicators of organizational efficiency. While proof of a causal link is beyond the scope of this study, our findings are consistent with the Fama and Jensen (1983) conjecture that major donors monitor non-profit organizations at least in part through their board membership. This study also implies that, with the exception of the finance committee, it is the presence of major donors on the board and not their presence on committees that is associated with organizational efficiency measures. The multivariate analysis shows that the ratio of total expenses to program expenses is significantly and negatively associated with higher donor representation. Decomposing the total expense ratio into its two components, we find that different factors affect the administrative and fund-raising expense ratios. The percentage of major donors on the finance committee, a key committee overseeing budgets and administrative expenses, is negatively related to the organization's administrative expenses ratio. The presence of major donors on other board committees is not significantly statistically associated with nonprofit efficiency.

nonprofit governance, boards, committees, efficiency

Abstract:
This paper clarifies and synthesizes elements of the two decade old debate concerning the Coase theorem and the empty core. Five lessons can be derived from this debate. First, the Coase theorem may break down when there are more than two participants (provided the additional participants bring an additional externality to the table). Second, the problem of the empty core does not disappear in a world of positive transaction costs. Under reasonable assumptions about the transactions technology, transaction costs may well exacerbate the empty-core problem. As a consequence, it is important to differentiate between transaction costs (when the core exists) and costs due to the empty core because each has different implications for rationalizing institutional arrangements. Third, the Coase theorem will not break down when the number of participants increases if the new participants do not bring additional externalities with them. If, however, additional participants bring in additional externalities, then the core may be empty and Pareto efficiency may not emerge from costless negotiations. Fourth, Pareto Optimality can be achieved when the core is empty by judicious use of penalty clauses, binding contracts, and constraints on the bargaining mechanism. Fifth, when a non-excludable public good is involved, a free-rider problem arises as the number of agents increases, and this undermines the Coase theorem; in this case, Coasean efficiency requires the participation of all agents affected by the externality in the writing of binding contracts.

Abstract:
The Ohlson (1995) model assumes that abnormal earnings follow an AR(1) process primarily for reasons of mathematical tractability. However, the empirical literature on the Garman and Ohlson (1980) model finds that the data support an AR(2) lag structure for earnings, book values and dividends. Moreover, the AR(2) process encompasses a far richer variety of time series patterns than does the AR(1) process and includes the AR(1) process as a special case. This paper solves the Ohlson model directly for an AR(2) abnormal earnings dynamic. The model is estimated on a time series firm-level basis following the approach used by Myers (1999). It is found that, like the Ohlson AR(1) model, the Ohlson AR(2) model severely underestimates market prices even relative to book values. These results further bring into question the empirical validity of the Ohlson model.

Linear accounting valuation models; Ohlson model

Abstract:
We use the theory of large deviations to investigate the large time behavior and the small noise asymptotics of random economic processes whose evolutions are governed by mean-reverting stochastic differential equations with (i) constant and (ii) state dependent noise terms. We explicitly show that the probability is exponentially small that the time averages of these process will occupy regions distinct from their stable equilibrium position. We also demonstrate that as the noise parameter decreases, there is an exponential convergence to the stable position. Applications of large deviation techniques and public policy implications of our results for regulators are explored.

Large deviations, level-2-large deviations, exit problems, mean reverting stochastic differential equations

Abstract:
This study uses a homogeneous database of cross-sectional qualitative and quantitative data to analyze the relative performance of Just-in-time and non-JIT plants operating in the auto-parts and electronic components manufacturing industries. The multivariate tests show that JIT plants use significantly less work-in-process and finished goods inventories than do non-JIT plants. JIT plants are significantly more profitable in terms of (operating) profit margins and contribution margin ratios than non-JIT plants. JIT plants have significantly smaller variable and total costs than do non-JIT plants, but not fixed costs. The success of JIT plants along these dimensions is related to the length of experience with JIT manufacturing, and process quality and leanness but unrelated to product quality, quality control or the extent of plant unionization. Although these benefits for JIT manufacturing have been conjectured by the literature, this study documents these associations empirically at the plant level.

Author footnote:
Opinions expressed in this article are the authors' only and do not necessarily correspond to the views of Bankers Trust or any of its subsidiaries.

Abstract:
This study empirically documents that firms with large ratios of current capital expenditures to prior four-year average capital expenditures enjoy positive contemporaneous abnormal returns. It further documents that average capital expenditures across Compustat-covered U.S. corporations are significantly greater (smaller) in the fourth (first) quarter of the fiscal year than in other quarters. This capital expenditure timing effect holds consistently across years, industries, fiscal year ends, and a variety of firm attributes. The study tests a number of potential economic and accounting explanations for the capital expenditure timing effect, including "use it or lose it", uncertainty resolution, taxes and income smoothing. It reports evidence consistent with "use it or lose it" and to a lesser degree with taxes and income smoothing. It finds weak or no evidence for uncertainty resolution and other explanations. The study concludes with a discussion of the implications of these findings for financial statement analysis.

Abstract:
This paper clarifies some of the issues raised by the original Aivazian-Callen-Coase debate concerning the Coase Theorem and the empty core. Despite the misconception by some legal scholars that Coase's limiting argument resolves the empty core issue, it is shown why economic scholars tend to disagree. Furthermore, contrary to Coase's conjecture that the empty core problem disappears in a world of transactions costs, it is shown that transactions costs exacerbate the problem of the empty core. Finally, this paper addresses the Mueller dual externality criticism of the Aivazian-Callen empty core example.

Abstract:
The purpose of this paper is to model the sources and extent of the potential biases of Activity Based Costing in the context of product profitability decisions. In particular we investigate a common manufacturing setting--the batch scheduling of multiple (two) products on a single production line--and analyze the behavior of minimum cost as a function of product dissimilarity and production volumes for two polar technology settings. In general it is found that unless products are similar cost relationships are non-linear irrespective of the production technology. Moreover the extent of the biases in ABC product costs induced by non-linearities increases quite dramatically with the extent of product dissimilarity and product volume differences the very conditions that have been used to motivate ABC in the literature. More specifically in the first setting the firm produces either of two products at a technologically fixed production rate. In this setting ABC costs are used to estimate the incremental cost of dropping a product line. It is found that when products are dissimilar ABC underestimates the cost from discontinuing the production of either product and the extent of the bias increases rapidly with the extent of product dissimilarity. In the second setting the firm employs a flexible production line capable of producing either of the two products at any production rate up to the technological limit. Here ABC costs are used to estimate marginal costs for pricing decisions. Unlike the prior setting products may be overcosted or undercosted depending upon product similarity and capacity utilization. Moreover even for similar products ABC cost estimates may be many times greater than the true marginal costs. Reasonable situations are found in which ABC overestimates the marginal cost of the low-volume high value product suggesting the possibility that ABC may oftentimes overcorrect for the biases inherent in a traditional costing system.

Abstract:
This study empirically investigates the information dynamics of the Ohlson valuation framework. Single-period lagged linear autoregressive relationships among dividends, earnings, and book values of equity are estimated for a sample of stochastically stationary firms and are found not to support the valuation framework. This study further extends the empirical analysis to a multi-lagged vector autoregressive linear information system. Consistent with the Ohlson valuation framework, the past time series of all three variables are generally found to be relevant for firm valuation. This study brings into question empirical research utilizing the Ohlson framework that presupposes a single-period lagged information dynamic.

Abstract:
We examine whether financial and non-financial variables are value relevant on a stand alone basis and together in explaining returns, market value of equity and the degree of investor sophistication for a sample of drug development companies. We use patent count, number of collaboration and the probability adjusted portfolio of drugs under development as proxies for non-financial information and earnings as the main proxy for financial information. Although drug companies invest significant amounts in research and development, and these costs are usually expensed as incurred, earnings are value relevant in explaining cumulative abnormal returns around earnings announcement dates, annual returns, and equity prices. These results suggest that prior findings regarding the [lack of] value relevance of financial information cannot be generalized across industries. We also find that non-financial information is value relevant in explaining annual returns, equity prices and the degree of investor sophistication. Furthermore, non-financial variables are still value relevant after controlling for financial variables suggesting that the two types of variables are complimentary.

Biotech, financial information, non-financial information, value relevance, investor sophistication